Abstract Employing the all electron augmented plane wave + local orbital (APW + lo) method based on the density function theory (DFT), we have performed ab initio calculations of electronic structure and magnetic properties of dilute Fe impurity in PdH x alloys ( 0 ⩽ x ⩽ 1.0 ) . Here we present our results for the H induced changes in the density of state (DOS), local magnetic moment and the macroscopic magnetic properties. The calculations performed for PdH x without the Fe impurity reveal H concentration dependent lattice expansion and Pd-H bonding which results in large change in electronic band structure and the DOS at the Fermi energy. The nonmagnetic DOS calculated for Fe doped PdH x is analyzed within Stoner model and the condition for local moment formation is found to hold for all concentrations of H. With an increase of the H content in the Pd matrix, the local moment of Fe declines from 3.43 μ B at x = 0 to 2.72 μ B at x = 1.0. More significantly, the giant magnetic moment, associated with the Fe impurity in Pd, progressively decreases with H concentration as the positive spin polarization of Pd-4d band electrons diminish and crossover to negative sign for x > 0.75. We show that H induced changes in s-d and d-d hybridization plays a crucial role on the magnetic properties of Fe doped PdH x alloys. In particular, we suggest that the rapid decline of the giant moment in PdH x alloys results from the weakening of ferromagnetic d-d exchange interaction between Fe-3d and Pd-d band electrons caused by changes in density of states arising from H induced filling up of the Pd-4d band.